[Federal Register Volume 73, Number 122 (Tuesday, June 24, 2008)]
[Rules and Regulations]
[Pages 35580-35583]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E8-14171]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[TD 9402]
RIN 1545-BH58


Guidance Under Section 956 for Determining the Basis of Property 
Acquired in Certain Nonrecognition Transactions

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Final and temporary regulations.

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SUMMARY: This document contains final and temporary regulations under 
section 956 of the Internal Revenue Code (Code) regarding the 
determination of basis in certain United States property (within the 
meaning of section 956(c) of the Code) acquired by a controlled foreign 
corporation in certain nonrecognition transactions that are intended to 
repatriate earnings and profits of the controlled foreign corporation 
without United States income taxation. The final regulation adds a 
cross reference to the temporary regulations. These regulations affect 
United States shareholders of a controlled foreign corporation that 
acquires United States property in certain nonrecognition transactions. 
The text of the temporary regulations serves as the text of the 
proposed regulations (REG-102122-08) set forth in the notice of 
proposed rulemaking published in the Proposed Rules section in this 
issue of the Federal Register.

DATES: Effective Date: These regulations are effective on June 24, 
2008.
    Applicability Date: These regulations apply to property acquired in 
exchanges occurring on or after June 24, 2008.

FOR FURTHER INFORMATION CONTACT: John H. Seibert at (202) 622-3860 (not 
a toll-free number).

SUPPLEMENTARY INFORMATION:

Background

    This document contains amendments to 26 CFR part 1 under section 
956, which was added to the Code by the Revenue Act of 1962, Public Law 
87-834 (76 Stat. 960 (1962)). The temporary regulations in this 
document are issued under the authority of sections 367(b) and 956(e). 
Section 367(b) was added to the Code by section 1042(a) of the Tax 
Reform Act of 1976, Public Law 94-455 (90 Stat. 1520 (1976)). Section 
956(e) was added to the Code by section 13232(b) of the Omnibus Budget 
Reconciliation Act of 1993, Public Law 103-66, (107 Stat 312 (1993)).
    The temporary regulations in this document apply to determine the 
basis of certain United States property (as defined in section 956(c) 
of the Code) acquired by a controlled foreign corporation in certain 
nonrecognition transactions that are intended to repatriate earnings 
and profits of the controlled foreign corporation without an income 
inclusion by the United States shareholders of the controlled foreign 
corporation under section 951(a)(1)(B).

Explanation of Provisions

A. Transactions at Issue

    The IRS and the Treasury Department are aware that certain 
taxpayers are engaging in certain nonrecognition transactions in which 
a controlled foreign corporation (CFC) acquires certain United States 
property (within the meaning of section 956(c)) without resulting in an 
income inclusion to the United States shareholders of the CFC under 
section 951(a)(1)(B).
    In one such transaction, for example, USP, a domestic corporation 
and the common parent of an affiliated group that files a consolidated 
tax return, owns 100-percent of the outstanding stock of US1 and US2, 
both domestic corporations that join USP in the filing of a 
consolidated tax return. US1 owns 100 percent of the stock of CFC, a 
controlled foreign corporation. US2 issues $100x of its stock to CFC in 
exchange for $10x of CFC stock and $90x cash.
    USP takes the position that: (i) US2's transfer of its stock to CFC 
in exchange for $10x of CFC stock and $90x cash is an exchange to which 
section 351 applies; (ii) US2 recognizes no gain on the receipt of $10x 
of CFC stock and $90x cash in exchange for its stock pursuant to 
section 1032(a); (iii) CFC recognizes no gain on the issuance of its 
stock to US2 under section 1032(a); (iv) CFC's basis in the US2 stock 
is zero pursuant to section 362(a); and (v) US1 and US2 do not and will 
not have an income inclusion under section 951(a)(1)(B) as a result of 
CFC holding the US2 stock (which constitutes United States property 
under section 956(c)).
    The IRS and the Treasury Department believe these transactions 
raise significant policy concerns because the transactions may have the 
effect of repatriating earnings and profits of a CFC without a 
corresponding dividend inclusion, or an income inclusion under section 
951(a)(1)(B) by reason of the CFC's investment in United States 
property.

B. Section 956--In General

    Section 956 was enacted to require an income inclusion by United 
States shareholders of a CFC that invests certain earnings and profits 
in United States property ``on the grounds that [the investment] is 
substantially the equivalent of a dividend being paid to them.'' S. 
Rep. No. 87-1881, 1962-3 CB 703, 794 (1962). (See Sec.  
601.601(d)(2)(ii)(b)).
    Under Section 951(a)(1)(B) each United States shareholder (as 
defined in section 951(b)) of a CFC (as defined in section 957(a)) must 
include in its gross

[[Page 35581]]

income for its taxable year in which or with which the taxable year of 
the CFC ends, the amount determined under section 956 with respect to 
such shareholder for such year (but only to the extent not excluded 
from gross income under section 959(a)(2)).
    The amount determined under section 956 with respect to a United 
States shareholder of a CFC for any taxable year is the lesser of: (1) 
The excess, if any, of the shareholder's pro rata share of the average 
amounts of United States property held (directly or indirectly) by the 
CFC as of the close of each quarter of such taxable year, over the 
amount of earnings and profits of the CFC described in section 
959(c)(1)(A) with respect to such shareholder; or (2) the shareholder's 
pro rata share of the applicable earnings of the CFC. In general, the 
amount taken into account with respect to any United States property 
for this purpose is the adjusted basis of such property as determined 
for purposes of computing earnings and profits, reduced by any 
liability to which the property is subject. Earnings and profits 
described in section 959(c)(1)(A) are attributable to amounts 
previously included in gross income by the United States shareholder 
under section 951(a)(1)(B) (or which would have been included except 
for section 959(a)(2)).
    Section 956(c)(1) defines United States property to generally 
include stock of a domestic corporation and an obligation of a United 
States person. However, section 956(c)(2) excludes from the definition 
of United States property, the stock or obligations of a domestic 
corporation which is neither a United States shareholder of the CFC, 
nor a domestic corporation 25 percent or more of the total combined 
voting power of which, immediately after the CFC's acquisition of stock 
in such domestic corporation, is owned (or is considered as being 
owned) by the United States shareholders of the CFC in the aggregate.
    Section 956(e) grants the Secretary authority to prescribe such 
regulations as may be necessary to carry out the purposes of section 
956, including regulations to prevent the avoidance of section 956 
through reorganizations or otherwise.

C. Section 367(b)--In General

    Section 367(b)(1) provides that in the case of any exchange 
described in section 332, 351, 354, 355, 356 or 361, in connection with 
which there is no transfer of property described in section 367(a)(1), 
a foreign corporation shall be considered to be a corporation except to 
the extent provided in regulations prescribed by the Secretary which 
are necessary or appropriate to prevent the avoidance of Federal income 
taxes.
    Section 367(b)(2) provides that the regulations prescribed pursuant 
to section 367(b)(1) shall include (but shall not be limited to) 
regulations dealing with the sale or exchange of stock or securities in 
a foreign corporation by a United States person, including regulations 
providing the circumstances under which gain is recognized, amounts are 
included in gross income as a dividend, adjustments are made to 
earnings and profits, or adjustments are made to basis of stock or 
securities, and basis of assets.
    Section 367(b) was enacted to ensure that international tax 
considerations are adequately addressed when the provisions of 
subchapter C of the Code apply to certain nonrecognition exchanges 
involving foreign corporations. In adopting section 367(b), Congress 
noted that ``it is essential to protect against tax avoidance * * * 
upon the repatriation of previously untaxed foreign earnings.'' H.R. 
Rep. No. 658, 94th Cong., 1st Sess. 241 (1975).

D. Determination of Basis in Certain Nonrecognition Exchanges

    Section 358(a)(1) generally provides that the basis of property 
received pursuant to an exchange to which section 351, 354, 355, 356, 
or 361 applies is the same as that of the property exchanged, decreased 
by the fair market value of any other property (except money) received 
by the taxpayer, the amount of any money received by the taxpayer, and 
the amount of loss to the taxpayer which was recognized on such 
exchange, and increased by the amount which was treated as a dividend, 
and the amount of gain to the taxpayer which was recognized on such 
exchange (not including any portion of such gain which was treated as a 
dividend).
    Section 362(a) provides that if property is acquired by a 
corporation in connection with a transaction to which section 351 
applies, or as paid-in surplus or as a contribution to capital, then 
the basis of such property shall be the same as it would be in the 
hands of the transferor, increased in the amount of gain recognized to 
the transferor on such transfer.
    Section 1032(a) provides that no gain or loss shall be recognized 
to a corporation on the receipt of money or other property in exchange 
for stock (including treasury stock) of such corporation.

E. Determination of Basis for Purposes of Section 956

    These temporary regulations apply when a CFC acquires stock or 
obligations of a domestic issuing corporation, that constitute United 
States property under section 956(c), from such corporation pursuant to 
an exchange in which the controlled foreign corporation's basis in such 
property is determined under section 362(a). If these temporary 
regulations apply to such an exchange, then, solely for purposes of 
section 956, the CFC's basis in such United States property shall be no 
less than the fair market value of the property transferred by the 
controlled foreign corporation in exchange for such property. For 
purposes of the temporary regulations, the term property has the 
meaning set forth in section 317(a), but includes any liability assumed 
by the CFC in connection with the exchange notwithstanding section 
357(a).
    These temporary regulations also apply if United States property, 
the basis of which is determined under these temporary regulations, is 
transferred to a related person (related person transferee), or by a 
related person transferee to another related person, pursuant to an 
exchange in which the related person transferee's basis in such 
property is determined, in whole or in part, by reference to the 
transferor's basis in such property. This rule is intended to prevent 
taxpayers from attempting to avoid the general rule of the temporary 
regulations by subsequently transferring the United States property to 
a related person in another nonrecognition transaction.
    The basis of United States property determined under the temporary 
regulations shall apply only for purposes of determining the amount of 
United States property acquired or held by a CFC under section 956, and 
accordingly the amount of a United States shareholder's income 
inclusion under section 951(a)(1)(B) with respect to such CFC.
    The temporary regulations apply only to determine the basis of 
United States property acquired by a CFC pursuant to an exchange that 
is within the scope of these temporary regulations. All other basis 
determinations are made under the rules provided under section 956(a) 
and Sec.  1.956-1(e)(1)(4).

Effective/Applicability Dates

    These regulations apply to United States property acquired in 
exchanges occurring on or after June 24, 2008. No inference is intended 
as to the basis of United States property acquired by a

[[Page 35582]]

controlled foreign corporation pursuant to a transaction described 
herein under current law, and the IRS may, where appropriate, challenge 
such transactions under applicable provisions or judicial doctrines.

Special Analyses

    These temporary and final regulations are necessary to prevent 
abusive transactions of the type described in the explanation of 
provisions in this preamble. Accordingly, good cause is found for 
dispensing with notice and public procedure pursuant to 5 U.S.C. 553(b) 
of the Administrative Procedures Act and for dispensing with a delayed 
effective date pursuant to 5 U.S.C. 553(d)(1) and (3) of such Act. For 
applicability of the Regulatory Flexibility Act (5 U.S.C. chapter 6), 
please refer to the notice of proposed rulemaking published in the 
Proposed Rules section of this issue of the Federal Register. Pursuant 
to section 7805(f) of the Code, this regulation has been submitted to 
the Chief Counsel for Advocacy of the Small Business Administration for 
comment on its impact on small entities.

Drafting Information

    The principal author of these regulations is John H. Seibert, 
Office of Associate Chief Counsel (International). However, other 
personnel from the IRS and the Treasury Department participated in 
their development.

List of Subjects in 26 CFR Part 1

    Income taxes, Reporting and recordkeeping requirements.

Amendments to the Regulations

0
Accordingly, 26 CFR part 1 is amended as follows:

PART 1--INCOME TAXES

0
Paragraph 1. The authority citation for part 1 continues to read in 
part as follows:

    Authority: 26 U.S.C. 7805. * * *

0
Par. 2. Section 1.956-1 is amended by adding a sentence to the end of 
paragraph (e)(1) and adding new paragraphs (e)(5), (e)(6) and (f) to 
read as follows:


Sec.  1.956-1  Shareholder's pro rata share of a controlled foreign 
corporation's increase in earnings invested in United States property.

* * * * *
    (e) * * * (1) * * * See Sec.  1.956-1T(e)(6) for a special rule for 
determining amounts attributable to United States property acquired as 
the result of certain nonrecognition transactions.
* * * * *
    (e)(5) and (e)(6) [Reserved]. For further guidance, see Sec.  
1.956-1T(e)(5) and (e)(6).
    (f) Effective/applicability dates. (1) Paragraph (e)(5) of this 
section is effective June 14, 1988, with respect to investments made on 
or after June 14, 1988. Paragraph (e)(6) of this section applies to 
nonrecognition property acquired in exchanges occurring on or after 
June 24, 2008.
0
Par. 3. Section 1.956-1T is amended by:
0
1. Redesignating paragraph (e)(5)(i) as paragraph (e)(5) and revising 
the paragraph heading for the newly-designated paragraph (e)(5).
0
2. Adding paragraph (e)(6).
0
3. Redesignating paragraph (e)(5)(ii) as paragraph (f) and revising 
newly-designated paragraph (f).
    The revisions and additions read as follows:


Sec.  1.956-1T  Shareholder's pro rata share of a controlled foreign 
corporation's increase in earnings invested in United States property 
(temporary).

* * * * *
    (e)(5) Exclusion for certain recourse obligations. * * *
    (6) Adjusted basis of property acquired in certain nonrecognition 
transactions--(i) Scope and purpose. This paragraph (e)(6) provides 
rules for determining, solely for purposes of section 956, the basis of 
certain United States property acquired by a controlled foreign 
corporation pursuant to an exchange in which the controlled foreign 
corporation's basis in such United States property is determined under 
section 362(a). This paragraph (e)(6) also applies if United States 
property, the basis in which has been determined under these temporary 
regulations, is transferred (in one or more subsequent exchanges) to a 
related person (within the meaning of section 954(d)(3)), pursuant to 
an exchange in which the related person's basis in such property is 
determined, in whole or in part, by reference to the transferor's basis 
in such property. The purpose of this paragraph (e)(6) is to prevent 
the effective repatriation of earnings and profits of a controlled 
foreign corporation that acquires United States property in connection 
with an exchange to which this paragraph (e)(6) applies without a 
corresponding income inclusion under section 951(a)(1)(B) by claiming a 
basis in the United States property less than the amount of earnings 
and profits effectively repatriated.
    (ii) Definition of United States property. For purposes of this 
paragraph (e)(6), United States property is stock of a domestic 
corporation described in section 956(c)(1)(B) or an obligation of a 
domestic corporation described in 956(c)(1)(C) that is acquired by a 
controlled foreign corporation from the domestic issuing corporation. 
The exceptions provided under section 956(c)(2) shall apply for this 
purpose.
    (iii) Basis of United States property. Solely for purposes of 
section 956, the basis of United States property acquired by a 
controlled foreign corporation in connection with an exchange to which 
this paragraph (e)(6) applies shall be no less than the fair market 
value of the property transferred by the controlled foreign corporation 
in exchange for such United States property. For purposes of this 
paragraph (e)(6), the term property has the meaning set forth in 
section 317(a), but also includes any liability assumed by the 
controlled foreign corporation in connection with the exchange 
notwithstanding the application of section 357(a). The fair market 
value of the property transferred by the controlled foreign corporation 
in exchange for the United States property shall be determined at the 
time of the exchange.
    (iv) Timing. For purposes of Sec.  1.956-2(d)(1)(i)(a), a 
controlled foreign corporation that acquires United States property in 
an exchange to which this paragraph (e)(6) applies acquires an adjusted 
basis in such property at the time of the controlled foreign 
corporation's exchange of property for such United States property.
    (v) Transfers to related persons. If a controlled foreign 
corporation transfers United States property, the basis in which has 
been determined under this paragraph (e)(6), to a related person 
(within the meaning of section 954(d)(3)) (related person transferee) 
in an exchange pursuant to which the related person transferee's basis 
in such United States property is determined, in whole or in part, by 
reference to the controlled foreign corporation's basis in such United 
States property, then, solely for purposes of section 956, the related 
person transferee's basis in such United States property shall be no 
less than the basis of such United States property in the hands of the 
controlled foreign corporation immediately before the exchange as 
determined under paragraph (e)(6)(iii) of this section. This paragraph 
(e)(6)(v) shall also apply in the case of one or more successive 
transfers of the United States property by a related person transferee 
to one or more persons related to the controlled foreign corporation 
(within the meaning

[[Page 35583]]

of section 954(d)(3)). This paragraph (e)(6)(v) shall apply regardless 
of whether a subsequent transfer was part of a plan (or series of 
related transactions) that includes the controlled foreign 
corporation's acquisition of the United States property.
    (vi) Examples. The rules of this paragraph (e)(6) are illustrated 
by the following examples:

    Example 1. (i) Facts. USP, a domestic corporation, is the common 
parent of an affiliated group that joins in the filing of a 
consolidated return. USP owns 100 percent of the stock of US1 and 
US2, both domestic corporations and members of the USP consolidated 
group. US1 owns 100 percent of the stock of CFC, a controlled 
foreign corporation. US2 issues $100x of its stock to CFC in 
exchange for $10x of CFC stock and $90x cash. US2's transfer of its 
stock to CFC is described in section 351, US2 recognizes no gain in 
the exchange under section 1032(a), and CFC's basis in the US2 stock 
acquired in the exchange is determined under section 362(a).
    (ii) Analysis. The US2 stock acquired by CFC in the exchange 
constitutes United States property under paragraph (e)(6)(ii) of 
this section because CFC acquires the US2 stock from US2, the 
issuing corporation. Therefore, because CFC's basis in the US2 stock 
is determined under section 362(a), then for purposes of section 
956, CFC's basis in the US2 stock shall, under paragraph (e)(6)(iii) 
of this section, be no less than $90x, the fair market value of the 
property exchanged by CFC for the US2 stock (the $10x of CFC stock 
issued in the exchange does not constitute property for purposes of 
paragraph (e)(6)(iii) of this section). Pursuant to paragraph 
(e)(6)(iv) of this section, for purposes of Sec.  1.956-
2(d)(1)(i)(a) CFC shall be treated as acquiring its basis of no less 
than $90x in the US2 stock at the time of its transfer of property 
to US2 in exchange for the US2 stock. The result would be the same 
if, instead of CFC transferring $90x of cash to US2 in the exchange, 
CFC assumes a $90x liability of US2.
    Example 2. (i) Facts. USP, a domestic corporation owns 100 
percent of the stock of USS, a domestic corporation. USP also owns 
100 percent of the stock of CFC, a controlled foreign corporation. 
USP's basis in its USS stock equals the fair market value of the USS 
stock, or $100x. USP transfers its USS stock to CFC in exchange for 
$100x of CFC stock. USP's transfer of its USS stock to CFC is 
described in section 351, USP recognizes no gain in the exchange 
under section 351(a), and CFC's basis in the USS stock acquired in 
the exchange, determined under section 362(a), equals $100x.
    (ii) Analysis. The USS stock acquired by CFC in the exchange 
does not constitute United States property under paragraph 
(e)(6)(ii) of this section because CFC acquires the USS stock from 
USP. Therefore, CFC's basis in the US2 stock, for purposes of 
section 956, is not determined under this paragraph (e)(6). Instead, 
CFC's basis in the USS stock is determined under the general rule of 
section 956(a) and under Sec.  1.956-1(e)(1)-(4). As determined 
under section 362(a), CFC's basis in the USS stock is $100x.
    Example 3. (i) Facts. USP, a domestic corporation, owns 100 
percent of the stock of CFC1, a controlled foreign corporation. CFC1 
holds United States property (within the meaning of paragraph 
(e)(6)(ii) of this section) with a basis of $30x for purposes of 
section 956 that was determined under paragraph (e)(6)(iii) of this 
section. CFC1 owns 100 percent of the stock of CFC2, a controlled 
foreign corporation. CFC1 transfers the United States property to 
CFC2 in an exchange described in section 351. CFC2's basis in the 
United States property is determined under section 362(a).
    (ii) Analysis. In the section 351 exchange, CFC1 transferred 
United States property to CFC2 with a basis that was determined 
under paragraph (e)(6)(iii) of this section. Further, CFC2's basis 
in the United States property is determined under section 362(a) by 
reference, in whole or in part, to CFC's basis in such property. 
Therefore, for purposes of section 956, pursuant to paragraph 
(e)(6)(v) of this section CFC2's basis in the United States property 
shall be no less than $30x. Paragraph (e)(6)(v) of this section 
would also apply if CFC2 subsequently transfers the United States 
property to another person related to CFC1 (within the meaning of 
section 954(d)(3)) if such related person's basis in the United 
States property is determined by reference, in whole or in part, to 
CFC2's basis in such property.

    (f) Effective/applicability date. (1) Paragraph (e)(5) of this 
section is effective June 14, 1988, with respect to investments made on 
or after June 14, 1988. Paragraph (e)(6) of this section applies to 
nonrecognition property acquired in exchanges occurring on or after 
June 24, 2008.
    (2) The applicability of paragraph (e)(6) of this section will 
expire on June 23, 2011.

Steven T. Miller,
Acting Deputy Commissioner for Services and Enforcement.
    Approved: June 6, 2008.
Eric Solomon,
Assistant Secretary of the Treasury (Tax Policy).
[FR Doc. E8-14171 Filed 6-23-08; 8:45 am]
BILLING CODE 4830-01-P